CSCO Rises on Meraki Deal; Potential ARUN Threat, Says UBS

By Tiernan Ray

Shares of Cisco Systems (CSCO) are up 32 cents, or 1.8% at $18.31, after the company this morning announced it would spend $1.2 billion to buy San Francisco-based Meraki, a vendor of wireless equipment that allows clients to outsource the management of that infrastructure.

Shares of Cisco competitor Aruba Networks (ARUN) slid as low as $17.85 this morning following the announcement, but then regained some ground and are now down 16 cents, or 0.9%, at $18.67.

The Street seems to be largely favorable toward the deal, with Cisco seen as expanding WiFi gear to smaller customers.

Wunderlich Securities’s Matthew Robison, who has a Buy rating on Cisco stock and a $24 price target, notes that the purchase price is about 16% of Cisco’s $7.5 billion in domestic cash and half of quarter’s worth of free cash flow.

The deal should offer Cisco the opportunity to expand its cloud computing offerings:

Meraki levers cloud facilities with software running on Wi- Fi hardware, which is inherently low-cost. Commentary indicates significant Meraki sales are recurring and the software content provides healthy gross margin. Expansion to markets adjacent to Wi-Fi connectivity appears to be part of the strategy. With the addition of security and load balancing (perhaps with go-to-market partner Citrix – CTXS-NR) Meraki/CNG could potentially evolve into the realm of privately held Barracuda, which has grown rapidly reaching smaller business settings. Recurring yield for computing and networking products (Cisco as an IT company). We expect Cisco to deploy Unified Computing System products in Meraki/CNG if it has not already been done. We view the Meraki deal as a mechanism for Cisco to extend beyond the realm of WebEx as an IaaS provider and ultimately to develop a yield model for technology as overall percentage growth declines with industry maturity. In this regard, it is reiteration of the CEO John Chambers’ remark during last week’s earnings call that Cisco is becoming an IT company.

Mark Sue of RBC Capital, who has a Sector Perform rating on the stock, writes that with the wireless market healthy, Cisco is looking to expand beyond the half of the market it already owns:

With a goal of expanding into the mid-tier, Cisco is acquiring private wireless networking vendor, Meraki, which focuses on the SMB customer. Cisco estimates the mid-tier market to be $5B in annual revenues, which includes wireless and wired networking. Cisco is the largest player in the Wi-Fi market with 50% share, but has traditionally mainly focused on the large enterprise and carrier markets. Beyond Wi-Fi, Cisco is looking to leverage Meraki’s cloud management solution for networking and may be taking an aggressive approach for the mid-tier market […] Meraki’s sweet spot is with companies with 1,000 employees. Companies like NETGEAR (NTGR) focus on smaller SMBs and Aruba and Cisco traditionally focus on larger enterprises. What may be common in each approach for the mid-tier may be the ease of use/installation and management that these types of customers prefer.

Of Aruba, UBS’s Amitabh Passi reiterates a Buy rating and a $25 price target, writing that the wireless market is still a big one, and the deal doesn’t immediately threaten Aruba’s specialty, it could post a challenge down the road:

With a TAM of $5b, the wireless LAN mid-market remains an attractive market. The deal does, however, validate the cloud-based model, and could pose incremental challenge to Aruba Instant, Aruba’s SMB offering, or encroach on larger accounts over time. As Aruba’s quarterly results highlighted, Aruba continues to have good momentum in the wireless LAN market with revs growing 21% in F1Q (OctQ), and implied guidance of 20% growth for F2Q. We believe competition is picking up in the mid- market with disruptive players such as Meraki and Aerohive, and low-cost players such as Ubiquiti. While Aruba appears to be gaining traction with Aruba Instant, its SMB offering, we believe revenues remain relatively small at this juncture.

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There are 2 comments

NOVEMBER 19, 2012 3:46 P.M.

ValleyOracle wrote:

Typo alert.. You have Intel on your mind after that chat with Intel's chairman this morning when writing this article
"Wunderlich Securities’s Matthew Robison, who has a Buy rating on Intel stock and a $24 price target, notes that the purchase price is about 16% of Cisco’s $7.5 billion in domestic cash and half of quarter’s worth of free cash flow."

NOVEMBER 19, 2012 3:49 P.M.

Tiernan Ray wrote:

ValleyOracle: D'oh! Absolutely correct. Thank you for pointing out the error.

About Tech Trader Daily

Tech Trader Daily is a blog on technology investing written by Barron’s veteran Tiernan Ray. The blog provides news, analysis and original reporting on events important to investors in software, hardware, the Internet, telecommunications and related fields. Comments and tips can be sent to: techtraderdaily@barrons.com.